Italy Is the EU’s Weakest Link

By: John_Mauldin

BY GEORGE FRIEDMAN : German Chancellor Angela Merkel, French President François Hollande, and Italian Prime Minister Matteo Renzi met Aug. 22 on an Italian aircraft carrier. They said they were meeting to talk about European policy after Brexit. The real discussion was about Italy’s economy and the steps needed to revive it.

The EU’s Integrity Is in Question

The location of their meeting is notable. It is a more militaristic location than Europeans normally prefer. The choice is even more interesting in light of the rumors that Germany might resume the military draft.

The US has been increasingly critical of Europe's contribution to NATO. The EU’s GDP is larger than that of the US, but the EU’s contribution to its own defense does not reflect that fact. Europe’s limited militaries make it dependent on the US.

Holding the meeting on the aircraft carrier was meant to show that Europe has some defense capability. But it also shows how Brexit diminishes the EU’s military power. It was a good place to have a meeting as European unity is in question, with Italy as a weak link.

Italy’s Crisis Is Worsening

Italy’s economy is weak. There is no growth. The banking system is in bad shape. Unemployment is high. There is substantial public unrest, and Renzi's standing is weakening. Italy has been somewhere between recession and stagnation since 2008. After eight years, the situation shows no signs of improving.

The Italians want to run a substantial budget deficit to stimulate the economy. The EU operates under a “stability pact.” This requires countries to keep deficits within certain limits but allows for exceptions.

France has operated outside the boundaries of the stability pact for years. Spain and Portugal were given exceptions as well. As Merkel put it, “The stability pact has a lot of flexibility, which we have to apply in a smart way.”

I’m not sure what “a smart way” looks like, but the issue does not apply to Italy. Renzi said, “Italy’s deficit has been at the lowest level of the last ten years.” He said that he “would go ahead with structural reforms and deficit reductions for the good of [Italy’s] children.”

In other words, Renzi said that he would further tighten spending. Merkel called his stance “courageous.” Hollande mentioned that the UK’s decision to leave the EU at some point in the future “requires a response by EU leaders.” Merkel agreed that they need to “deliver results.”

She was not clear on what those results would be.

Renzi’s Motives

Increased austerity has not worked in eight years. Accepting that Renzi is not insane, it is hard to understand why he thinks this move will work any time soon.

Merkel conceded that these actions “won’t show results in four weeks, but it sets the parameters for a sustainable and successful Italy.” No one expects it to work in four weeks, but the question is why it should work at all.

This means the Germans and French are going to use Brexit to explain why increased austerity is needed. It is not clear to me how Brexit leads to austerity, but Merkel seemed to be saying that. Also, Merkel made it clear that the European Commission might be willing to accommodate Renzi.

But Renzi’s proposed strategy hardly begs for accommodation. Renzi, who was seen as a maverick in Europe, is now being more austere than required. If Merkel offers congratulations, she has gotten everything she wants.

Part of this might be political gamesmanship. Renzi needs a victory. He could propose deep austerity and then demand concessions from the EU Commission. Once granted, he can be hailed as a tough negotiator.

But he would be bargaining against his own budget. Politics is strange enough that he might pull it off. An alternative is that by conceding this point, he is setting up an EU concession on the banks. That is pure guesswork, as there wasn’t a hint of it in the talks.

Nationalism in Italy Is on the Rise

In either case, the budget will be extremely unpopular and impose several more years of austerity. It will generate an exit movement, with proponents arguing that EU-imposed austerity caused these problems in the first place. The faster they get out of the EU the better.

For all I know, maverick Renzi lives, and he is doing this to trigger this movement. But whether or not he favors leaving the EU, there will be a movement as a result of this budget.

The argument for staying in the EU will be that Italy can’t get better without the EU. The argument for leaving the union will be that Italy will never get better if it stays.

In any case, the malaise that has gripped Italy for years will continue. It is important not to expect solutions in four weeks.

The problem with European unity is that after eight years, no one expects an improvement in four weeks. The question is whether this is the permanent condition of Europe. Perhaps this is the best Italy will do for a long time.

The scene on the aircraft carrier was designed to remind everyone that Europe has military power and to legitimize European unity in the face of Britain’s decision to leave. But it is not clear whether the Italian public will applaud or demand that the carrier be sold.

It isn’t clear that Italy will choose to leave by any means. But it is clear that the Italian economic crisis is not on its way to clearing up.

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